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Generational Dynamics Web Log for 18-Oct-2008
Warren Buffett joins the kool-aid crowd

Web Log - October, 2008

Warren Buffett joins the kool-aid crowd

In his dotage, he seems determined to bankrupt himself.

Warren Buffett is buying stocks again.

Market summary, 16,17-Oct-2008

Market summary, 16,17-Oct-2008

The news seemed to electrify the market for a few hours on Friday. The markets fell sharply on Friday morning, after a big advance on Thursday, but as knowledge of Buffett's article spread, investors poured into the market, to the point where the Dow was 400 points up.

Somewhere along the line, investors must have actually read Buffett's article, and decided, along with me, that what he wrote was nuts.

Buffett says that those who are holding cash (or cash equivalents, like Treasuries) are making a big mistake. His NY Times op-ed article says the following:

"Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree. Those investors who cling now to cash are betting they can efficiently time their move away from it later. In waiting for the comfort of good news, they are ignoring Wayne Gretzky’s advice: “I skate to where the puck is going to be, not to where it has been.”"

How could he possibly have reached these conclusions? He doesn't have the vaguest idea how the stock market will perform over the next decade.

He gives examples of previous market advances, and they are truly bizarre. They're so absurd that I'm going to list a couple of them:

He writes: "During the Depression, the Dow hit its low, 41, on July 8, 1932. Economic conditions, though, kept deteriorating until Franklin D. Roosevelt took office in March 1933. By that time, the market had already advanced 30 percent."
Do you get this? He's saying that the market advanced 30% from July 1932 to March 1933, and therefore you should buy stocks today. What does one have to do with the other? Does he forget that it had already fallen 90% by July 1932?

He writes: "Again, in the early 1980s, the time to buy stocks was when inflation raged and the economy was in the tank."
Is he nuts? Sure, the market went up in the 1980s, but that was after a 16-year bear market that began in 1966. How does he know we aren't about to have another 16-year bear market?

This is insane.

Once upon a time, Buffett had some sense. Here's what he wrote in Berkshire Hathaway Inc.'s annual report for 2002 at http://www.berkshirehathaway.com/2002ar/impnote02.html:

"We continue to do little in equities. ... Despite three years of falling prices, which have significantly improved the attractiveness of common stocks, we still find very few that even mildly interest us. That dismal fact is testimony to the insanity of valuations reached during The Great Bubble.

Unfortunately, the hangover may prove to be proportional to the binge.

The aversion to equities that Charlie and I exhibit today is far from congenital. We love owning common stocks – if they can be purchased at attractive prices. In my 61 years of investing, 50 or so years have offered that kind of opportunity. There will be years like that again. Unless, however, we see a very high probability of at least 10% pre-tax returns (which translate to 6½-7% after corporate tax), we will sit on the sidelines. With short-term money returning less than 1% after-tax, sitting it out is no fun. But occasionally successful investing requires inactivity."

Now this is odd. He wrote this early in 2003, He says that "short-term money" (i.e., cash equivalents) were paying less than 1%. That's what he's warning people against today, but it was fine with him in 2003.

Well then, where was the Dow in 2003? Well, the above report was posted on the internet on March 6, 2003. On that day, the Dow was at 7674, after having fallen from a high of 11723 in 2000.

Today, the market is at 8852, having fallen from a high of 14164 a year ago.

Furthermore, I doubt that anyone would argue with the claim that after a series of bank failures, the economy today is much worse off than it was in 2003.

How in the world could Buffett possibly conclude that the market is a big buying opportunity today?

Actually, Buffett has been making a lot of bad decisions recently.

In 2006, when Buffett still seemed to have his marbles, he said:

"Speculators are like Cinderella at the ball having a great time, but at midnight everything turns to pumpkins and mice. As midnight approaches the party gets to be more fun, and everyone thinks they'll get out before midnight. The problem for Cinderella is that there are no clocks on the wall."

He changed enormously by May of this year, when he said, "The worst of the crisis in Wall Street is over."

That was before the collapse of AIG, Lehman brothers and various other financial institutions.

But it's much worse.

This is the person who called derivatives "financial weapons of mass destruction." In May 2007, he said this:

"The introduction of derivatives has totally made any regulation of margin requirements a joke. I believe we may not know where exactly the danger begins and at what point it becomes a super danger. We don't know when it will end precisely, but ... at some point some very unpleasant things will happen in markets."

And so, a lot of people (including me) were completely shocked when he announced in May that first quarter profits of Warren Buffett's Berkshire Hathaway fell by 64% because of $2 billion in losses from investments in derivative contracts -- some of the most irresponsible investments possible.

Buffett is saying and doing incredibly stupid things, and there's little doubt in my mind that at age 78 he's really screwing things up.

In his op-ed article on Friday, he writes:

"A simple rule dictates my buying: Be fearful when others are greedy, and be greedy when others are fearful. And most certainly, fear is now widespread, gripping even seasoned investors."

Buffett violated his own rule when he got greedy while others were also greedy, when he lost $2 billion in derivatives contracts that later turned out to be disastrous.

Now he's telling people to get back into the stock market at a time when doing so completely contradicts his own position in 2003.

Buffett is being neither greedy nor fearful. He's simply turned into a whack job.

Actually, his op-ed piece provides a clue to his fantasizing. He says that economic conditions deteriorated until President Roosevelt took office, implying that they got better because of Roosevelt's policies.

Then he says that the economy was in the tank in the early 1980s, when President Reagan was in office.

Buffett is a open supporter and economic adviser of Barack Obama. What I infer from Buffett's op-ed is that he believes that President Obama will be a new FDR who will immediately improve the economy.

I've heard others say similar things, but this is a total fantasy. FDR took office after 3 years of economic cratering after 1929, all of which was blamed on Hoover. Whoever takes office in January will also face 3-4 years of economic cratering, and is going to be presiding over a national disaster.

This shows the danger of anyone getting too deep into the swamp of politics. You start to believe your own lies, and assume that the choice of President will actually make any difference to what's coming.

In fact, shortly after Buffett made his statement that "the worst of the crisis ... is over," a web site reader referred me to an article that had appeared in the New York Herald Tribune on May 1, 1930:

"WASHINGTON: Attributing the Wall Street crash of last fall to the "inexorable consequences of the destructive forces of booms" and paying tribute to the American people for their "unity of action in time of national emergency," President Hoover addressed the United States Chamber of Commerce here tonight [May 1]. "We have been passing through one of those great economic storms which periodically bring hardship and suffering to our people," said Mr. Hoover. "While the stock exchange crash occurred only six months ago, I am convinced that we have now passed the worst, and with continued unity and effort we shall rapidly recover."

A lot of people who compare today's events to those of the Great Depression think that George Bush will be the discredited "Hoover" figure today. But if Obama listens to Buffett (and even if he doesn't), then it's Obama who will be the new "Hoover."

From the point of view of Generational Dynamics, the world is headed for a major financial crisis and then a world war, and no power in the world can stop it, even Warren Buffett.

(Comments: For reader comments, as well as more frequent updates on this subject, see the Financial Topics thread of the Generational Dynamics forum. Read the entire thread for discussions on how to protect your money.) (18-Oct-2008) Permanent Link
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Generational Dynamics Web Log for 18-Oct-2008 Warren Buffett joins the kool-aid crowd

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Generational Dynamics Web Log for 18-Oct-2008
Warren Buffett joins the kool-aid crowd